Scott Corporation is considering the purchase of new equipment costing $30,000.

ID: 2347427 • Letter: S

Question

Scott Corporation is considering the purchase of new equipment costing $30,000. The projected annual after-tax net income from the equipment is $1,200, after deducting $10,000 for depreciation. The revenue is to be received at the end of each year. The machine has a useful life of 3 years and a $4,000 salvage value. Scott requires a 12% return on its investments. The factors for the present value of $1 for different periods follow:

What is the net present value of the machine and what is the maximum Scott would have been willing to pay for it?

-$900 but Scott would not be willing to acquire the machine.

-$(251.52) but the price Scott would pay cannot be determined.

-$900 and Scott would be willing to pay $30,900 to acquire the machine.

-$(251.52) and Scott would be willing to pay $29,748.48 for the machine.

-$(251.52) but Scott would not pay any amount to acquire the machine because the NPV is negative.

Explanation / Answer

What is the net present value of the machine and what is the maximum Scott would have been willing to pay for it?

-$900 but Scott would not be willing to acquire the machine.

-$(251.52) but the price Scott would pay cannot be determined.

-$900 and Scott would be willing to pay $30,900 to acquire the machine.

-$(251.52) and Scott would be willing to pay $29,748.48 for the machine.

-$(251.52) but Scott would not pay any amount to acquire the machine because the NPV is negative.

After tax net income

Depreciation

Cash flow after tax

PV factor

Total PV

-30,000

-30000

1 - 3 years

1,200

10,000

11,200

2.4018

26900.16

NPV =

-3099.84

The project should not be accepted as the NPV is negative which means that the present value of cash inflows is less than the initial investment.